The National Bureau of Economic Research recently declared a recession began in February, and, if history is a guide, the next 10 years will likely look far different than the past 10.

Recessions have consequences.

Today’s economic environment underscores just how important it is to have, and adhere to, a long-term financial plan expertly tailored for your goals. And that plan shouldn’t be founded on assumptions about “forever” trends or “new paradigms” about an asset class or industry. Instead, turbulent times like these are exactly the time to manage risk while remaining resolutely diversified across asset classes in order to thrive even as the economy, markets and society change in the years ahead.

RECESSIONS ARE AGENTS OF CHANGE

Between 1990 and 2001, the S&P 500 and U.S. Small Caps were the best places to invest in the entire world, and growth clearly outpaced Emerging Markets, for example. But what happened after a recession in 2001? Emerging Markets and International Developed markets handily outshined the S&P 500 and Small Caps for the next six years — that is, until the Great Recession. Then, over the next 13 years, the S&P 500 once again led all asset classes. How might this recession alter the landscape for leading asset classes?

Well, no one can say with any certainty. There is no perfect model of the future. While this sounds obvious, this basic admission often separates individual investors from professional money managers and financial planners who do this for a living.

A chart showing asset class leadership at different times in history
This chart shows how asset class leadership varies during different periods of economic expansion. Bloomberg LP, Northwestern Mutual Wealth Management

KNOWING WHAT CAN’T BE KNOWN

While financial planners and money managers certainly model an outlook for the economy, they are always aware that any hypothesis can be proven wrong. Therefore, instead of chasing trends, they hold fast to a principled process of portfolio construction that may overweight, or emphasize, a certain sector or asset class, but never abandon an asset class altogether. They always remain diversified, and that’s how professionals avoid fatal errors, or putting all the eggs into a single idea or trend that ends up being wrong.

Unfortunately, individual investors tend to sacrifice diversification in pursuit of assets that have been outperformers. In 2001, for example, individual investors piled into U.S. technology stocks, claiming a “new market reality and path to riches” had been declared. These investors outperformed those who remained steadfastly diversified, even in that “new market.” But the outperformance was short-lived, ending quickly and spectacularly for so many.

Similarly, in the mid-2000s (when overseas markets outperformed) the refrain was that China, Europe and oil were the paths to future riches. This also ended abruptly for those who saw a new “forever trend” and chased these stories.

Today, you’re once again hearing people say things like, “Everyone knows that XYZ asset class is going to continue outperforming.” And, once again, we are hearing individuals question the value of diversification and, frankly, they are tired of hearing about it. But a recession often marks the end whatever asset or sector drove the previous expansion. Leading asset classes change. Society advances. Policymakers shift. Supply chains adapt and technology evolves. New ways of thinking and behaving are often cemented in the process of healing the wounds of a recession, and those new ways of operating often underpin the next expansion.

With an expertly crafted financial plan that’s diversified, manages risk and tailored to your goals, you’re already prepared for a changing world.

HOW TO THRIVE IN A POST-RECESSION ECONOMY

How society and the economy will evolve is impossible to know, but that’s something your financial planner already knows. Instead of worrying about the Federal Reserve, U.S. debt, elections, China, Hong Kong, the coronavirus, the complexities of globalization or deglobalization, the keys to building wealth in a post COVID-19, post-recession world are remarkably simple:

Have a plan. This is important in all of life’s endeavors but incredibly important to one’s financial life. Embedded in every financial plan is the reality that life is unpredictable — like coronavirus. At Northwestern Mutual, our financial advisors attempt to solve for life’s surprises holistically, through the combination of diversified investments and insurance. In fact, building security in an uncertain world is the reason Northwestern Mutual was founded back in 1857.

Manage emotions. A plan is important. However, it’s even more important to stay with that plan — especially during times like these when emotions are running high. We all “know” that history has proven that diversification works. We all “know” that chasing “forever trends” so often backfires. We all “know” that you shouldn’t sell when others panic. Unfortunately, based upon the trillions in cash that moved out of markets and into money market funds during the rapid stock market decline in March, most people did not pay heed to this advice and sold. Look where markets are today.

The world is going to evolve in ways we don’t expect. Diversification is designed for that reality. Building wealth isn’t about outperforming some benchmark for a year or two, it’s about avoiding fatal errors and maintaining resiliency regardless of future outcomes. That’s what a financial planner brings to the table. The financial plan you’ve built with the expertise of an advisor is braced for uncertainty around the corner, but it’s also designed to capitalize on new opportunities that may become evident down the road.

Commentary is written to give you an overview of recent market and economic conditions, but it is only our opinion at a point in time and shouldn’t be used as a source to make investment decisions or to try to predict future market performance. To learn more, click here.

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